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Bank of Punjab Limited (BOP): Downgraded to ‘Hold’ on limited upside

• We are downgrading Bank of Punjab (BOP) from ‘Buy’ to ‘Hold’ with a revised Target Price of Rs10.5.
• The stock offers a limited upside of 6%, alongside 2020E D/Y of 8%. The bank trades at a 2020E P/B of 0.4x, P/E of 3.8x and offers a ROE of 13%.
• The current discount of 60% to other banks is largely inline with its historical past 5-year average. The 5-year average P/B of BOP stands at 0.6x vs. the sector’s average of 1.3x, a discount of around 55%.
• The discount, we believe, is justified given concerns over (1) higher NPLs than the sector’s average (as evident from 2Q2020 results as well) and (2) implementation of Treasury Single Account (TSA) given that ~50% of the deposits relates to the government.
• We are also revising down our earnings estimates for the bank by 3-12% over 2020E-2022F. Our earnings revision primarily stems from (1) significant increase in specific provisions and (2) lower than expected decline in interest expense during 2Q2020.
• In 2Q2020, strong Non Funded Income performance led by capital gains (government securities: Rs4.7bn) and decline in operating expenses by 11% QoQ shielded profitability from a 4% QoQ decline in Net Interest Income (NII). 
• Interest on loans depicted a 15% QoQ decline indicating re-pricing which we feel will be greater in 2H2020.
• Interest on investments increased by 7% QoQ. This was driven by the AFS portfolio which grew by 12% QoQ. PIBs accumulated from 3Q2019 carry a return of ~12%, which has supported NIMs.
• With IDR increasing consistently over the past few quarters and more so sequentially from 54% in 1Q2020 to 62% in 2Q2020, T-Bills are likely to bring overall yields down in 2H2020.

Provisioning – Specific

• While most banks shored up provisions in order to create buffer against any unexpected losses due to COVID-19, the bank made a specific provision worth Rs844mn in 1Q2020 and Rs2.3bn in 2Q2020.
• This has prompted us to increase our estimate for provision charge for the year given the stress still visible on the loan side.
• Infection ratio for the bank stands at 13.7% higher than industry average of 9.7%.
• Exposure to the textile and trading sectors is where the problem emanates from and has been a chronic problem for the bank.
• Coverage is at 82%, which is in line with the industry average, however lower than peer banks.

Deposit Constitution – Interest bearing weighing down on NII

• Although the bank is showing strong deposit growth with increase of 21% QoQ, (13% QoQ and 17% YTD), the overall mix of deposits has remained the same.
• As of Jun-2020, 80% of total deposits are interest bearing with Fixed Accounts further increasing to 34% from 32% in Dec-2019.

The same head had gone up to 36% in 1Q2020, although there has been a slight improvement sequentially, the number is still significantly higher than 20% average of the sector.